Afya (NASDAQ:AFYA) Might Be Having Difficulty Using Its Capital Effectively

There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Afya (NASDAQ:AFYA), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Afya is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.11 = R$712m ÷ (R$7.8b - R$1.2b) (Based on the trailing twelve months to June 2023).

Thus, Afya has an ROCE of 11%. On its own, that's a standard return, however it's much better than the 6.9% generated by the Consumer Services industry.

See our latest analysis for Afya

In the above chart we have measured Afya's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Afya here for free.

What Does the ROCE Trend For Afya Tell Us?

On the surface, the trend of ROCE at Afya doesn't inspire confidence. Around five years ago the returns on capital were 19%, but since then they've fallen to 11%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

Our Take On Afya's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Afya is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 35% over the last three years, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

While Afya doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation on our platform.

While Afya isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.